FINRA (Financial Industry Regulatory Authority) announced on May 4, 2022, that it fined two FINRA registered funding portals, a combined $1.75 million for failing to comply with securities laws and rules designed to protect investors in the crowdfunding space. These news releases are useful tools to look for trends in enforcement, violations, and other sanctions. These trends can assist you in identifying weak areas in your Firm’s compliance programs or surveillance. Below is a summary of the Wefunder and StartEngine matters, as well as key takeaways. Click here for the corresponding news release.
Summary of Findings from Wefunder Enforcement:
From May 2016 through 2021, FINRA noted the following violations resulting in a censure, $1.4 million dollar fine and undertaking to retain an independent consultant:
- Wefunder raised approximately $20 million more than permitted under crowdfunding raise limits by diverting funds from accredited investors to Reg D accounts held by the parent company. The Firm failed to promptly direct canceled or oversubscribed offerings to investors or issuers which resulted in approximately $290,000 floating in a dormant escrow account.
- Wefunder created correspondence that contained language and links that made investment recommendations and solicited investments to investors without proper registration as a broker or dealer.
- The firm posted misleading communication on its website that may be false, exaggerated, unwarranted, promissory, or misleading.
- Wefunder failed to establish and maintain a reasonable supervisory system through inadequate procedures, and inaccurately designated individuals responsible for certain parts of its business. WSP’s did not provide clear direction to report complaints which allowed several items to go unreported.
- Wefunder failed to have a proper program to track investments and supervise bank account access.
For the more information, check out the Wefunder Letter of Acceptance, Waiver, and Consent (PDF).
Summary of Findings from StartEngine Enforcement:
At various points during the period of November 2016 and January 2018, StartEngine included communications on its funding portal website that it knew or had reason to know were false or misleading. The Firm also posted inaccurate investor counts in its portals and finally failed to reasonably supervise issuer prepared content listed on the portal website. This resulted in a censure, $350,000 fine and certification of corrective actions implemented. Specific examples include
- Descriptions of an Issuer A’s product, a home robot on the StartEngine portal which exaggerated the robot’s level of functionality and project completion status. Without correcting any of the false or misleading statements or removing them, the offering closed, raising approximately $200,000. Additionally, the Firm also failed to correct misleading statements related to a basketball league Reg CF raise.
- StartEngine posted misleading investment trackers on its portal often grouping issuer-associated investors and counting investors twice if they made multiple investments.
- The Firm did not have procedures to guide staff when the portal received negative information related to issuers. Red flags that may have resulted in misleading statements were identified but there was no process in place to address these flags.
For the more information, check out the StartEngine Letter of Acceptance, Waiver, and Consent (PDF).
Key Takeaways from Enforcement Actions
Both enforcement actions have a number of key takeaways for Firm’s that use Reg CF portals and those that do not.
Policies and Procedures
Make sure your Firm’s policies and procedures are up to date. This includes the correct individuals in charge of functions/products at the Firm. Firms should also review their procedures to ensure that they include appropriate procedures to address your Firm’s products and services and their corresponding regulatory requirements.
Communications should be reviewed by an appropriate supervisor to ensure that the content does not violate securities laws and regulations. This includes reviewing content to ensure it’s accurate, fair, balanced and not misleading or prohibited based on your Firm. Additionally, reviewing communications in light of proper disclosure/disclaimer language should be prioritized. Finally, if red flags are identified the Firm should ensure there is a process for supervisory review and documentation of a resolution.
Firm training is key when designing new processes and procedures and teaching or reinforcing regulations and risks to employees. Training should be structured and customized to the Firm’s products, risks, and services. Training should be well documented (i.e. content, attendance) and stored for books and records compliance.
Escrow and Payments
Firms should understand their requirements as it relates to the flow of investor/client funds. Furthermore, Firm’s need to ensure that they are not circumventing regulatory requirements through the structure and flow of funds for deals.
If you have material corrections that need to happen, hiring an outside consulting firm to provide you support and guidance is key. If there are any areas where you would like to explore additional assistance or services, please contact us. We have assisted many Firms in creating and designing effective compliance programs.